Reversing the collapse of confidence in the UK requires a change in policy: Economists

Reversing the collapse of confidence in the UK requires a change in policy: Economists


By Andy Bruce and Kate Holton

LONDON (Reuters) – Leading economists, investors and banks warned on Tuesday that investor confidence in Britain would only recover if Finance Minister Kwasi Kwarting scrapped the economic plan that had unleashed such turmoil in financial markets.

Sterling touched an all-time low of $1.0327 on Monday and British government bonds sold off at a fierce pace as investors lost confidence in Prime Minister Liz Truss’ new government. Some mortgage providers, unable to price loans, have halted sales.

US economist Larry Summers said the first step in restoring credibility was “not to say incredible things”, after Quarting suggested there would be more tax cuts on top of the 45 billion-pound debt-financed cuts he announced last week.

Summers, a former US Treasury secretary, cited rising interest rates on British long-term debt as a “characteristic of discredited situations” and said the crisis would affect London’s ability to survive as a global financial centre.

“I think the pound will find its way below parity with both the dollar and the euro,” he added.

Truss was elected prime minister earlier this month by Conservative party members – not the broader electorate – with a pledge to pull the economy out of years of stagnant growth with deep tax cuts and deregulation.

But the economic plan outlined on Friday by Finance Minister Quarting, which requires an additional ยฃ72 billion of government bond issuance in this fiscal year alone, has sent shockwaves through the financial markets, driving up the costs of this borrowing.

While many lawmakers welcomed a return to Thatcher’s doctrines and Reaganomics in the 1980s, some began expressing concern about the impact on government finances, businesses, and families.

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Two years before the general election, the opposition Labor Party is now 17 points ahead of the Conservative Truss Party, a level not seen in more than two decades, according to a YouGov poll for The Times.

Hou Merriman, a Conservative MP who backed Truss’ rival, former finance minister Rishi Sunak, in the race for the premiership, said the victor appeared to be “losing out his voter with policies he warned us about”.

“For the good of our country and the livelihood of everyone in our country, I still hope I’m wrong,” he said on Twitter (NYSE).

In response to the turmoil, the Bank of England and the Treasury released statements after London stock markets closed on Monday in hopes of reassuring investors, as the central bank said it would not hesitate to raise interest rates if necessary.

This immediately pushed the pound further, as some investors bet on an emergency rate hike, although it recovered partially on Tuesday, up 0.9% at $1.0782 at 8.03 am (0703 GMT).

UK government bond yields fell sharply as well, but partly reversed the historic increases seen on Friday and Monday.

Former BoE Deputy Governor Charles Bean said he called for emergency action from the central bank.

“On this occasion, if I were still at the bank in my role as deputy governor, I would certainly advise the governor to think this was one of the occasions where it (the call for a meeting) made sense,” he told BBC radio.

Bean said that โ€œGo big andโ€ฆ go fast,โ€ a strategy would be the best approach.

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Markets are still watching

Kwarteng on Monday pledged to lay out medium-term plans for debt reduction on November 23, along with forecasts from the Independent Office of Budget Responsibility showing the full scale of government borrowing.

Conservative MP Andrew Bridgen told BBC Radio that he had spoken to Quarting since Friday and expected him to cut government spending in the coming weeks.

Economist Alan Monks of JPMorgan, the largest US bank, said verbal intervention from the Bank of England and the Treasury was “measured”.

“But there is still no clear indication that the source of the problem – the government’s fiscal strategy – is being reversed or re-examined,” Monks said.

This must happen before November in order to avoid much worse outcomes for the economy.

There is no reason for markets to give the government the benefit of the doubt before Kwarteng’s fiscal announcement in late November, said Chris Chikluna, head of economic research at Daiwa Capital Markets.

“The market can take control and an emergency rate hike could still be possible before the next BoE meeting,” he said, referring to the next policy announcement scheduled for November 3.

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